Through the course of the past two years, we've seen a trend toward consolidation in the US wireless industry. AT&T (T) failed to purchase T-Mobile (TMUS) in late 2011, but the firm has taken another stab at gobbling up spectrum and customers, announcing its intention to acquire Leap Wireless (LEAP) July 12 for $1.2 billion plus the assumption of Leap's net debt of approximately $2.8 billion. The deal works out to $15 per share, but AT&T will sell Leap's Chicago spectrum with the proceeds going to Leap shareholders, which investors are pegging at $2+ per share of additional value.
After regulators squashed AT&T's purchase of T-Mobile, T-Mobile USA merged with MetroPCS. Not long after, Sprint (S) acquired a portion of US Cellular's (USM) Midwest spectrum and operations. That was followed by the long drama for control of Sprint and Clearwire (CLWR) from Japan's SoftBank and Dish Network (DISH). Available wireless assets are disappearing, but we think US Cellular will be the next to fall.
Though the deal fits the industry trend toward consolidation, Cricket (Leap's flagship brand) only has about 4.6 million subscribers, and churn at the brand was relatively high at 2.9% during its most recent quarter. Revenues, operating income, and cost per user have all been trending lower.
In our view, AT&T wanted Leap's spectrum, which, according to Leap CEO Dough Hutcheson is largely unused. AT&T's network quality still lags behind that of Verizon, and we think the acquisition is a clear attempt to play catch up. We would not be totally surprised to see AT&T divest Cricket or even slowly unwind the brand. The average Cricket user isn't anywhere near as attractive as those of AT&T, Verizon (VZ), or even Sprint, as ARPU (average revenue per user) is only $43.72. For perspective, Verizon's comparable metric, ARPA (average revenue per account) was a staggering $150.27 during the first quarter.
Though the proposed T-Mobile acquisition had a $3 billion break-up fee paid by AT&T, in this situation, Leap must pay a break-up fee if the proposed acquisition isn't approved. If for some reason Leap's board decides against the deal, Leap will pay a break-up fee of $71 million-equal to 6% of the deal value. If another bidder tops AT&T's offer, Leap will owe AT&T $46 million, which is equal to 4% of the deal value. These provisions are bold, and we doubt Leap's board of directors will change its mind. Cricket's business doesn't compete much against AT&T, and we assume the deal will pass regulatory scrutiny.
For AT&T, we think the transaction is a clear spectrum grab. Even with the assumption of debt, the deal doesn't look too expensive, especially since AT&T will be better able to monetize the additional spectrum than Leap.
Still, we think AT&T has a long (and expensive) way to go to upgrade its network, and we won't be looking to add shares to the portfolio of our Dividend Growth Newsletter at this time. However, competitor Verizon remains on our watch list as we wait for a more attractive entry point.